After a false start, Russia may at last be breaking free of the shackles of
her history.
Friday, Jul. 6, 2001.
Revenge of the Bulls
By Eric Kraus
The summer of 2001 is proving sweet to what had until recently seemed a
seriously endangered species: the Wild Russian Bull. Suddenly, Moscow,
London and New York are abuzz with Russia conferences and seminars. As
foreign investors return to admire the wonders of the resurrection, local
brokers are again threatened with the twin ravages of sleep-deprivation and
liver failure - escorting investors through oil fields by day, through
Moscows grueling "cultural programs" by night. Is it 1997 all over again?
Are memories so short? Is once-a-generation not enough? Or this time, is it
different?
For the past five years I have lived a life curiously in synchrony with the
gyrations of the Russian financial sector-being thus treated to more
episodes of elation and despair than many men know in a lifetime.
When, at last, in 1997 I arrived to live in Moscow after peddling Russian
debt from Paris, President Boris Yeltsin suddenly appeared to have feet of
clay. Government was arbitrary, chaotic, unimaginably corrupt. Ruble
"stability" made Moscow more expensive than London or Osaka. There was nary
a Russian-manufactured product to be found, and the government was merrily
funding a gaping budget deficit by rolling over debt at 35 percent per annum
(briefly reaching 150 percent eight months later).
While the foreigners were giddy, the Russians seemed skeptical: Was the
national anima so gloomy that they could not recognize a good thing, or did
they simply know something we didnt? Reluctantly I opted for the later,
awaiting impending doom with gallows humor and vodka. By the time the crash
came, I was in Asia.
Returning to Moscow to take over an orphaned fixed-income desk in September
1998, I encountered a rapidly changing country. On the one hand, the default
could hardly have been handled worse - foreign investors were needlessly
antagonized, markets ceased functioning, the currency shed 70 percent of its
value. Yet, on the street, gone was the wretched excess, the fast money, the
party on the edge of the apocalypse. Within a few months there was a
swelling budget surplus, GDP was growing (for the first time since the
60s), and the trade surplus was ballooning as Russia started producing what
it consumed.
In the aftermath of the crash it was taken as a sign of madness to remain
employed in Russian financial markets. Alongside a few other madmen, notably
Goldmans Al Breech, I compounded this folly by rating Russian debt as the
buying opportunity of the century.
Almost three years after the 1998 crash, Russian fixed income has surged by
more than 400 percent, far and away the worlds best-performing debt index.
This year, Russia is also the worlds top equity market, rising some 60
percent against a backdrop of bearish global markets. By comparison with the
first "bubble-phase," last year Russia ran an unheard-of 8.7 percent primary
budget surplus, a $61 billion trade surplus, and is currently increasing
reserves by an average of $400 million per week despite paying down onerous
foreign debts. Notwithstanding the pessimism at the beginning of 2001,
growth is once again beating expectations and will probably top 5 percent as
domestic demand continues to strengthen.
Yet the numbers do not fully convey the underlying reality. If under Yeltsin
the situation was always "grave," it was never really "serious." Putin, on
the other hand, it is unarguably "serious." Initially seen in the West as
some inscrutable Slavic sphinx, he is, in fact, proving a most predictable
and consistent leader, overwhelmingly popular yet driving more real reform
than any Russian politician since Pyotr Stolypin. Virtually everything that
Russian strategists have called for over the past decade - reform of natural
monopolies, of tariffs, the customs and tax codes, corporate governance,
barter payments, budgetary discipline - has been, or is being, addressed.
The judiciary and military are being reformed while at least some attempt is
being made to curb rampant corruption.
Fears of a new wave of Soviet-style repression have proven nonsensical - one
oligarch has indeed seen his tame TV station wrenched from his grip, only to
be handed over to another bunch of scoundrels. Yet Moscow, at least, has no
shortage of critical press, and more significantly, Russians travel freely,
surf the net and write and speak as they please. Russia is becoming more
boringly predictable, less absurd, less fun, as she slowly matures into a
European democracy with a non-totalitarian opposition and the beginnings of
a civil society.
Have I thrown all caution to the winds? No, there are worrisome signs.
Russias officialdom still preys upon its people, and Putin has done little
to instill a "civil-servant" mentality. The reform process remains far too
dependent upon one man.
Due to structural inflation and massive dollar inflows, the real ruble
exchange rate is rising, imperiling medium-term growth. The banking system
remains unreformed and almost totally nonfunctional, and although energy
exports now comprise less than 50 percent of total exports, sensitivity to
oil prices remains excessive. While the foreign debt burden is sustainable,
the refusal of the Paris Club to accept the same burden-sharing it demands
of private investors means that vital capital is being exported to service
Soviet-era debt. With the global economy looking increasingly weak, Russias
ability to swim against the tide remains unproven.
Could the upturn then be just another bubble? I think not. Unlike in 1997,
perception is, if anything, currently lagging the underlying reality.
Businesses are being restructured, investment time-horizons are growing far
longer, and - most essentially - both property rights and medium-term
political and economic stability seem assured. Russia still has enormous
resources, mineral as well as human, and the restructuring of the economy
will itself generate substantial growth. Reforms are becoming irreversible
as a middle class develops and western business practices are adopted. After
a false start, Russia may at last be breaking free of the shackles of her
history.
Eric Kraus is Chief Strategist for Nikoil Capital Markets in Moscow. He
contributed this comment to The Moscow Times.
